Friday, July 14, 2017

Housing: Part 241 - Home Prices compared to wages

Bill McBride at Calculated Risk has a recent post that gives a glimpse into how important understanding the housing supply problem is. This isn't meant to pick on McBride. His post will seem quite obvious and reasonable to practically any reader.

In the post, he tracks a ratio of home prices to wages. This ratio had a range of about 20% from peak to trough before the bubble. At the turn of the century, it was down at the bottom of that long term range. Then, it rapidly increased by about 50%. Then it collapsed, and has slowly risen back toward the top of the long term range.

McBride comments, "Going forward, I think it would be a positive if wages outpaced, or at least kept pace with house prices increases for a few years."

That certainly would be a positive, but it would only be a positive if that happened because we solved the supply problem. If we don't solve the supply problem, then in most reasonable scenarios of economic growth, this ratio will inevitably grow. That is because economic growth will be centered in our innovation centers, which now have limited access so that workers must bid up the housing stock to access those labor markets. Economic opportunity is arbitrarily limited, so payment for access to that will naturally scale up as the American economy expands.

This is like saying, "Going forward, I think it would be a positive if wages outpaced, or at least kept pace with taxi medallion prices for a few years." That is actually happening now because of disruptors like Lyft and Uber. And that is why it is a good thing that wages are outpacing taxi medallion prices.

But, if there wasn't disruption, then the value of taxi medallions would simply scale with the amount of activity happening in places like New York City. It would simply be an asset that is correlated with economic activity at more than a 1:1 ratio.

Since we have incorrectly blamed housing on credit and money instead of on supply, there is this bi-partisan reaction now to basically any organic economic development. Imagine if Manhattan had a policy of maintaining a fixed supply of taxi medallions and tracking their value. Then, every time their values began to rise, Manhattan would implement "macroprudential" policies known to slow economic growth and employment.

We're afraid of our own shadows, and we will continue to be until we get this right.

The strange thing is that nobody seems curious about why this is happening. It's bubbles, bubbles everywhere, and the idea that lenders or speculators in our midst are enticed into madness is apparently so satisfying that observers rarely seem motivated to ask "why?".

3 comments:

Since we have incorrectly blamed housing on credit and money instead of on supply, there is this bi-partisan reaction now to basically any organic economic development. Imagine if Manhattan had a policy of maintaining a fixed supply of taxi medallions and tracking their value. Then, every time their values began to rise, Manhattan would implement "macroprudential" policies known to slow economic growth and employment.---KE

Great writing. Not a perfect analogy, but gets the point across.

Desmond Lachman of AEI just blogged about how the Fed blew asset bubbles and how the Fed must reduce its bloated balance sheet etc.

Actually, equities are a little above long-term norms, but if interest rates are pondered, maybe equities are properly priced. The market thinks so anyway. What should stock markets trade at when 10-year US Treasuries pay 2.3%?

You know the story on real estate.

If bond values are bloated it is because interest rates are so low---and why are they so low?

The Fed, by being so slut-easy for so long (for decades!), has brought down long-term interest rates? Tell me how that works.

There is just insanity out there in monetary circles. I think some commentators went bananas when the Fed did QE and no inflation resulted. They have nuts ever since. Now they jibber-jabber about asset bubbles and the pending catastrophe if the Fed does not unwind its bloated balance sheet and the catastrophe that will happen when they do unwind.

If what they say is true, institutional investors are unable to gauge value, and are bidding up bubbles. How do you like those free markets?

Prices for houses are pretty meaningless compared to costs. The cost of a candy bar ~ the price of a candy bar, the cost of a house = price of the house * the cost of interest + property taxes + insurance + maintenance. Housing prices are important for home builders, and other home sellers, housing costs important for home buyers. These differences are fundamental to how an Austrian would approach an issue vs a Keynesian (and plausibly an MM).